Universal Corp (NYSE:UVV) has also started investing for the future. It announced in August that it has formed a joint venture with Avoca, a premier botanical extraction company, to produce liquid nicotine for the electronic-cigarette industry. The market for electronic-cigarette sales is expected to cross the $1 billion mark this year, and a study by Bloomberg Industries estimates that electronic-cigarette sales will exceed that of traditional cigarettes by 2047.
Peer comparison
Universal’s peers include Philip Morris International Inc. (NYSE:PM) and Lorillard Inc. (NYSE:LO), which trade at a premium to Universal with forward P/E ratios of 14 and 13, respectively.
Lorillard Inc. (NYSE:LO) is the third-largest tobacco company in the U.S., with its flagship premium cigarette brand Newport the best-selling menthol brand in the country. It reported impressive cigarette volume data for the second quarter of fiscal 2013, with its domestic wholesale shipments flat compared with the second quarter of 2012.
In contrast, adjusted total cigarette industry domestic wholesale shipments fell by 4% year-over-year. However, I am negative on Lorillard given the potential regulatory risks related to menthol cigarettes. The Food and Drug Administration (FDA) sought public input on menthol cigarettes in July, which is a clear indication of future regulatory actions. Despite diversifying into non-menthol cigarettes, it will take time for the non-menthol category to be a significant contributor to Lorillard Inc. (NYSE:LO)’s top line.
Philip Morris International Inc. (NYSE:PM) is more diversified than Lorillard Inc. (NYSE:LO) in terms of geography. With its products sold in more than 180 markets globally, Philip Morris International Inc. (NYSE:PM) is less affected by any negative regulatory actions or increased taxation in any single country.
Nevertheless, its financial results for the first half of fiscal 2013 were less than satisfactory, with diluted earnings per share up by 4.6%, excluding currency effects. This suggests that meeting the full-year forecast of a 10%-12% increase in diluted earnings per share will be challenging. The tough economic environment, which encouraged consumers to turn to illicit tobacco products in certain markets, was a key factor for the disappointing EPS growth. My biggest concern with Philip Morris International Inc. (NYSE:PM) is its weak balance sheet with negative shareholders’ equity.
Conclusion
Despite concerns over direct sourcing and slower industry growth, I like Universal Corp (NYSE:UVV) for its strong competitive position protected by high barriers to entry and its improved balance sheet. In addition, Universal is attractively valued at 9 times forward P/E, making it a buy in my books.
The article Don’t Avoid This Leading Tobacco Leaf Supplier Because of Slower Growth originally appeared on Fool.com and is written by Mark Lin.
Mark Lin has no position in any stocks mentioned. The Motley Fool owns shares of Philip Morris International.
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